Conceived to become the only privately funded LEED Silver-certified space anywhere in the state of Oregon, green building features at the 6-story, mixed-use Elements Building in downtown Corvallis were the subject of a recent proceeding – and written judicial opinion – in Oregon Tax Court.

In CLP Elements LLC v. Benton County Assessor, TC-MD 100662D (May 10, 2011), the owner – and recent purchaser – of the building challenged its real market value as assessed by Oregon’s Benton County. The 6-story building features 3 floors of spa space, 1 floor of office space, and a 2-floor restaurant/bar. Like many commercial properties across the country, the Elements Building lost a tenant during the economic downturn. However, only the office floor was vacant at the time the county assessed the disputed valuation.

But that lone tenant was Hewlett Packard. So the owner’s appraiser made an economic obsolescence adjustment (dropping the building’s value by 52 percent) which the county assessor challenged during the proceeding. The assessor testified that “the subject property was substantially progressed in the process to LEED Silver certification prior to completion of the project, however there is no evidence that the structure has been officially certified.” He also identified the building’s “green roof, efficient energy systems, and re-used materials throughout,” and argued that “those features add value through efficient ventilation and heating and energy savings.” To counter this line of the assessor’s testimony, the owner simply claimed that the building “will never be certified at any level.”

The opinion itself – which is available for download here – is, frankly, not all that interesting in terms of novel green building judicial language. But I do think it’s important to consider that LEED and green building continue to intersect traditional real property issues in novel ways. For example, this is the first reported decision in which a property’s pursuit of LEED certification and supporting green design features were used to buttress an argument that those features make real property worth more. This line of argument is similar to the logic applied by the Appellate Division for the Fourth Department here in New York in Destiny USA Holdings, LLC v. Citigroup Global Markets Realty Corp., 889 N.Y.S.2d 793 (App. Div., 4th Dep’t 2009). There, the Appellate Division required Destiny’s construction lender to continue funding Destiny’s construction loan on the basis that the project’s green financing was “revolutionary” and “unique.” (Of course, that financing is now under scrutiny).

While the handful of written opinions that we have been able to identify to date would hardly make up a new green real estate law hornbook, they are of  import for the green building industry at large.  The benefits of LEED certification and green building generally must always be articulated clearly and objectively. The possibility that they may raise legal issues down the road is a real one that must be considered up front as part of every firm’s overall risk management strategy.

We’ve been talking quite a bit over the past few months here at GRELJ about many of the darker legal issues associated with green building and real estate. With daylight savings time and, hopefully, spring just around the corner, I thought it might be timely to spotlight CleanTech REIT, a new Manhattan-based real estate investment trust that will exclusively invest in real property that can be used for the generation – or transmission – of energy produced from wind, solar, geothermal, and hydroelectronic sources. (REITs, as you may know, are companies that own and/or operate income-producing real estate and distribute at least 90 percent of their taxable income to shareholders annually as dividends.)

According to a Barclays analyst, CleanTech is the first and only REIT with this type of exclusive investment strategy. The firm was established – at least in part – in response to a “land grab” that its founders (former Clifford Chance attorneys) are observing among European developers, who have been coming into the U.S. and trying to exploit the ongoing instability in the oil markets (note yesterday’s triple digit dip on Wall Street fueled by the oil markets and ongoing conflict in northern Africa) by purchasing real estate with the potential to produce and/or transmit green energy. Although CleanTech is not limiting itself to any particular geographic region or technologies – a strategy which its founders believe should reduce overall risk for investors – its business model effectively depends on the properties’ value appreciating on account of continued flux in the energy markets.

One of the issues that CleanTech – or any other investor in green technologies – will face in the medium term is whether the short-term incentives for renewable energy installations that were extended for varying durations in the stimulus package and TARP will sustain the long-term viability of the underlying technologies. For example, in 2009, only 8 percent of total U.S. energy consumption came from renewable energy sources; whether incentives can bridge the gap until pricing and efficiency can help the technologies stand on their own remains to be seen. The success of firms like CleanTech will obviously be a good litmus test for the industry’s long-term ability to account for a much larger share of America’s needs.

Unless you’re enjoying an extended President’s Day vacation this week, there’s a good chance you’ve already read Rick Moriarty’s fantastic piece from last weekend’s Syracuse Post-Standard about the latest hurdle facing the developer (Robert Congel) of the star-crossed Destiny USA mega-mall project in Syracuse, New York. If that project sounds familiar to you, it’s because we’ve written about it here at GRELJ previously; as you may recall, in November of 2009, the Appellate Division for the Fourth Department here in New York upheld (in a split 3-2 decision) the Onondaga County Supreme Court’s decision that Destiny was entitled to a preliminary injunction requiring its construction lender, Citigroup, to continue funding Destiny’s construction loan. (Destiny USA Holdings, LLC v. Citigroup Global Markets Realty Corp., 889 N.Y.S.2d 793 (App. Div., 4th Dep’t 2009)).

However, it is the federal “green bonds,” which the Appellate Division specifically identified as so “unique” and “revolutionary” that money damages alone would not be sufficient to compensate Destiny if the injunction were denied, that find themselves as the stars of this chapter of the Destiny saga. The American Jobs Creation Act of 2004 authorized up to $2 billion of green bonds that state or local governments could issue for certain qualified green building projects. (See 26 U.S.C. 142(l)). The Destiny project received $228 million in green bond proceeds, which investors purchased at a lower, tax-free interest rate, effectively giving Destiny a $120 million subsidy over the 30-year term of the bonds. (Interestingly, the USGBC purchased $50,000 in bonds in 2007 “in a gesture of support for the program,” according to Moriarty. The bonds were insured by XL Capital and rated AAA.).

Proposed as a 4.5 million-square-foot, LEED Platinum-certified entertainment destination, Destiny USA was to be constructed as a three-phase expansion of Syracuse’s existing Carousel Center and include 1,300 hotel rooms, an indoor aquarium, a water park, an indoor recreation of the Erie Canal, a stadium and performing arts center, three golf courses, a 100-acre glass-enclosed indoor park, and a 20-acre artificial lake; green features were to include a 45-megawatt biofuel plant and 290,000 square feet of solar panels. At the time, Citi, which underwote the bonds, said that “[t]he financing of the Destiny project using these new Green Bonds is groundbreaking and represents a step forward in addressing climate change in the U.S. because this project incorporates sustainable design, energy conservation and renewable energy sources on a large scale.”

Now, though, after construction stopped before phase one was even completed, Destiny’s tax-exempt financing is in jeopardy. As part of the basic eligibility requirements for the green bonds, Destiny was required to “demonstrate and provide written assurances” in its application to the IRS for the exemption that it would allocate the tax-exempt financing for financing the purchase, construction, integration, or other use of energy efficiency, renewable energy and sustainable design features of the project. As construction has stalled, most of Destiny’s promised green features – including its LEED certification – have failed to materialize. With respect to green building and sustainable design, the IRS explained in Notice 2005-48 that:

[a]t least 75 percent of the square footage of commercial buildings that are part of the project [must be] registered for United States Green Building Council’s LEED certification and [must be] reasonably expected by the applicant (at the time of the designation) to receive such certification, based on all the facts and circumstances, including statements of the United States Green Building Council, opinions of independent experts in green building and sustainable design, and relevant experience of the project developer. The application must include: (1) LEED Letter Templates indicating which LEED credits the applicant plans to pursue and the applicant’s planned approach to pursuing such credits; (2) documentation demonstrating the applicant’s plans to design and construct LEED-certified, sustainably-designed buildings, including, where applicable, architectural plans, drawings and specifications, policy statements, contracts, leases and other applicable documents, and other related applicable information; (3) information on how plans to build LEED-certified, sustainably-designed buildings will be implemented through the management structure, for example, by placing LEED-accredited professional(s) and other experienced green building professionals in positions of authority over the project to ensure that the applicant’s green building plans are realized; (4) information on any plans to attract broader expertise and perspectives to the project that could support the effort to achieve LEED certification through such means as green building design charettes or consultation with additional green building experts; and (5) information on financial incentives and penalties that will be included in the design, construction, engineering and other building contracts and subcontracts to tie a part of the contractors’ and subcontractors’ compensation to their level of success in designing and constructing LEED-certified, sustainably-designed buildings.

Note, however, that there is no requirement that actual, formal certification be achieved; a point that Destiny’s attorneys have made to the IRS in a letter that was sent to the agency last week by the Syracuse Industrial Development Agency (through which the bonds were issued). SIDA wrote the letter because Destiny is facing an end-of-month deadline to provide a compliance report through SIDA (a required submission under the Act, 4 years after issue of the bonds) describing whether it has met – or anticipates meeting – the commitments it made to green building practices in its application for the exemption. Destiny’s letter also argues that the project – when complete – will still satisfy the spirit of the Act, even if its final composition is different than what the developer initially contemplated, and that the developer “remains deeply committed to sustainability and renewable energy goals.”

Regardless of what action – if any – the IRS takes upon receipt of the letter, it is obligated by the Act next year (5 years after issue of the bonds) to determine – after consulting with EPA – whether the project has “substantially complied” with the Act. If not, at that point in time, Destiny would forfeit $2.3 million being held in a Treasury reserve account, and the bonds could lose their tax-exempt status; Destiny would pay a higher interest rate on the bonds to pay the taxes on the interest earned by the investors who purchased the bonds. Note that the IRS has the ability to extend the 5-year period for up to 2 more years before making the “substantial compliance” determination.

The fallout if Destiny loses its tax-exempt status would read very much like a law school hypothetical. Complicating matters further is that there are – at least as far as I can tell – no Treasury Regulations or other IRS rulings interpreting or applying the Act as it relates to the loss of tax-exempt financing for green bonds – not surprising given that the program was created specifically for Destiny and three other large-scale, brownfield remediation demonstration projects across the country. Indeed, Moriarty notes that Senators Clinton and Schumer “helped to insert the [green bonds] program into [the Act] . . . and [it] was specifically written to favor Destiny USA and three projects in other states” (Colorado, Georgia, and Connecticut). Accordingly, whether the Section 142(l) issues confronting Destiny will have any broad-based applicability for other types of similar financing arrangements remains to be seen.

More generally speaking, Destiny’s woes remind me very much of those that have plagued the Xanadu project in the New Jersey Meadowlands. Similarly conceived for, and commenced during, a much different economic climate, the project stalled, changed hands several times, and after some political wrangling appears close to getting back on track. Given the political clout behind the Destiny project, lack of any precedential Treasury Regulations, and the somewhat improving lending climate, it seems premature to assume that Destiny is slated to become a white elephant. That’s not to say what’s happening right now in Syracuse isn’t troubling from a policy perspective, or an indictment of how the language in the Act providing for the green bonds program was crafted, but I do think it remains to be seen what the ultimate legacy of these financing issues will be from a green legal perspective.

Nevertheless, there is no doubt that a messy situation is brewing in Syracuse; we’re looking forward to Mr. Moriarty’s continued excellent coverage on the project and we’ll be following it closely in the weeks and months ahead here at GRELJ.

Beginning on November 1, Australia will require landlords to disclose the energy efficiency of their office buildings when they either sell or lease space that is larger than 21,530 square feet (2,000 square meters). Ratings will be based on the National Australian Built Environment Rating System (“NABERS”), which is on a scale of 1 to 5 stars (Australia’s current median market performance stands at 2.5 stars). After an initial one-year transition, landlords will also be required to provide other information, including an assessment of tenant lighting. The new regulations also extend to foreign REITs that own buildings in Australia (incidentally, foreign investors are responsible for over 70 percent of all real estate transactions in Australia and have purchased over $1.2 billion in assets there over the past 12 months).

According to CB Richard Ellis’s Mark Willers, who is quoted in a press release detailing the new requirements, Class A and Class B buildings should be able to earn a NABERS rating of between 3.5 and 4 stars by “fine-tuning” their existing plants and systems, but “[t]he ability of a building to achieve NABERS . . . in excess of 4 stars will depend on its configuration and construction, and may require significant capital works.” In Australia, government entities have committed themselves to occupying space in buildings with NABERS ratings higher than 4.5 stars by 2011, though only 11 percent of the overall Australian market has achieved this rating to date.

One of the thornier green real estate questions that the new requirements may help answer is whether a higher NABERS rating correlates to increased rents and asset values. Unlike the numerous studies performed here in the U.S. (which have been critiqued on a variety of grounds by many commentators), there have been no comparable studies performed to date in Australia. One particular U.S. study, authored by Piet Eichholtz and Nils Kok of Maastricht University and John Quigley of Berkeley, released by the Royal Institution of Chartered Surveyors (“RICS”) in 2009, and actually noted in the press release, concluded that there were “no significant market effects associated with the LEED label. Energy Star concentrates on energy use, while the LEED label is much broader in scope. Our results suggest that tenants and investors are willing to pay more for an energy-efficient building, but not for a building advertised as ’sustainable’ in a broader sense.”

(As you may recall, the RICS study was titled “Doing Well By Doing Good? An Analysis of the Financial Performance of Green Office Buildings in the USA,” and the purpose of the study was to determine whether investors are currently willing to pay any premium for green (Energy Star- and LEED-certified) commercial office buildings and, if so, what that premium was.) If any Australian studies are eventually undertaken, it will be interesting to see if their conclusions mirror those from RICS and offer any insights that will be transferable to the North American market.

Late last week, CBRE Investors’ CBRE Capital Partners investment entity originated $61 million in first mortgage financing for the LEED Gold-hopeful Riverhouse condominium project in Battery Park City. The mortgage is backed by the 77 units that remain available at the 262-unit, 31-story building, and is for a three-year term with a one-year extension option, putting to bed some of the rumors that have been swirling for the past year about the project’s financial difficulties and poor unit sales performance. The news is also interesting because of the backdrop it provides to the fledgling Gidumal litigation, which we first reported here at GRELJ a couple of weeks ago.

In terms of the project’s somewhat sordid financial history, the Riverhouse was originally developed by Lehman Brothers and the Sheldrake Organization pursuant to a $282.4 million senior mortgage from Helaba Bank and a $74 million junior loan from the AFL-CIO trust. Although the former loan was paid off, the developers defaulted on the junior loan at maturity in November of 2009, resulting in a $48 million lis pendens filing against the property in February. Just before the filing, the Lehman entity alleged that Sheldrake had misappropriated over $12 million in funds from Helaba which had been earmarked for ground lease payments and construction expenses by submitting falsified invoices to the lender. Lehman served Sheldrake with a Notice of Removal (from its capacity as the development team’s day-to-day manager of the project), and Sheldrake unsuccessfully sought an injunction in Supreme Court barring its removal.

Afterwards, what was left of the development team hired CBRE to sell the junior note, but CBRE ultimately decided to originate the financing itself. According to Frank Scavone, COO at CBRE Capital Partners, the Riverhouse “exemplifies an otherwise successful development project in need of additional time to realize full sell out.” Affidavits submitted earlier this year in connection with Sheldrake’s application for injunctive relief indicated that 17 additional sales contracts have been signed, with another 7 out for signature – positive signs that the project is back on track.

It would be purely speculative to consider whether any of Riverhouse’s issues – at least indirectly – led to the allegations set forth in the Gidumal complaint; indeed, intra-development team power struggles are relatively common and don’t typically impact unit purchasers in any meaningful manner. However, this is the first time we’ve heard – at least publicly – these types of allegations on a green building or LEED project; whether they impacted the overall quality of Riverhouse’s construction or the performance of its building systems is the type of question mark which the Gidumal litigation could shed light on if the lawsuit proceeds through discovery.

As a final side note, the Riverhouse has yet to receive formal LEED certification; it registered with USGBC in June of 2005 under LEED for New Construction Version 2.1.

In New York (like most jurisdictions), one of the elements for obtaining a preliminary injunction is whether there will be irreparable injury to the moving party if the court denies provisional relief. However, if the court can calculate the moving party’s damages with precision, there can be no irreparable injury while the action is pending because the moving party would be adequately compensated by money damages if it were to prevail at trial. The Destiny court, however, found two exceptions to the irreparable injury test based explicitly on the project’s green features. It held that

“an exception is warranted because the Project’s unique character renders it difficult to calculate any damages sustained by Destiny Holdings. Citigroup stated through its managing director at a U.S. Green Building Council Presentation on November 8, 2007 that the Project is a ‘visionary project’ that has created a ‘new financing paradigm for green economic development’ that is ‘revolutionary.’ Citigroup Chairman and Chief Executive Officer Charles Prince called the use of newly-created Federal Green Bonds [created under the American Jobs Creation Act of 2004 and authorizing up to $2 billion in tax-exempt, private activity bonds to be issued by state or local governments for qualified green building and/or sustainable design projects] in financing the Project ‘groundbreaking [and] a step forward in addressing climate change in the U.S. because the Project incorporates sustainable design, energy conservation, and renewable energy sources on a large scale. He further commented that the Project ‘is good for economic development and good for the environment.’ Thus, the unprecedented nature and scope of the Project makes it unique, so that it has no established market value and any damages sustained could not be calculated with reasonable precision.”

The court also found a second exception to the general rule because of the project’s highly touted green features, stating that “Destiny Holdings has established the enormous potential for harm to its reputation and the reputation of the entire ‘Destiny USA’ project. Harm to business reputation is harm for which money damages are insufficient and for which injunctive relief may be appropriate.” I don’t think it’s unreasonable to infer here that the court was connecting the project’s green features to its “reputation” in order to carve out another exception to the general rule barring injunctive relief in similar contexts. For both of the foregoing reasons, the Appellate Division upheld the trial court’s decision, but modified the order granting the preliminary injunction to require Destiny to post a bond in order to compel Citigroup’s performance under the loan agreement.

Interestingly, two justices joined in filing a dissenting opinion that ignored the project’s green features. The dissent stated that “there is no support in the record for the majority’s conclusion that an ‘enormous potential’ for harm to the reputation of Destiny Holdings exists, other than the bald assertion of a principal of Destiny Holdings that its reputation would be damaged as a result of its failure to complete the project. The core of the majority’s argument is that the nature of the project makes it unique and thus that Destiny Holdings would be entitled to specific performance [of the construction loan agreement]. While the scope of the Project may be unique to the region in both its size and impact, the record clearly establishes that the [construction loan agreement] itself is simply one to loan money in order to finance construction.”

I think that there are a few important things to take from this opinion. First, notwithstanding the Destiny project’s massive scope, the Appellate Division has given owners a basis for arguing that green building projects – regardless of their financing mechanism – are inherently unique.  In the event of any type of dispute, owners or other parties which might be seeking provisional remedies or are engaged in other motion practice (that, like in Destiny, is unrelated to the project’s green design features) can now rely on appellate authority that green building projects are different and deserve different treatment under applicable law.

Conversely, the opinion suggests why construction and real estate attorneys need to be well-versed in the green building space; if you were asked to oppose a similar motion where the movant was arguing that “green buildings are different,” you would likely want to argue in opposition how, to date, many green building projects have not resulted in such different outcomes from conventional projects (i.e, by identifying the ongoing LEED performance gap and studies analyzing the alleged rental and asset premium for different types of certified green buildings).

The decision is also important to note from a lender’s perspective. If potential borrowers looking to finance a green construction project have the ability to argue that their projects deserve special treatment in connection with any lending dispute, lenders may consider, for example, revisiting the terms of their construction loans or otherwise pricing this type of risk into the loan itself.

Are there other green real estate-related legal issues arising out of this opinion that you might anticipate arising in connection with these types of construction lending disputes?

My thanks to Kevin Garrison of Baker Donelson for forwarding a copy of the Appellate Division’s opinion in this matter to my attention. Either of us would be happy to forward you a copy of the opinion upon request.

The authors used a standard commercial real estate valuation formula that related the logarithm of the rent per square foot or sales price per square foot of each building cluster to a variety of hedonic building characteristics, including quality, amenities, age, and location. Some pertinent conclusions as set forth in the report are as follows:

• “The results suggest that the LEED rating has no statistically significant effect upon commercial rents, but the Energy Star rating is associated with rents higher by 3.3 percent.”

• With respect to sales price, “[w]hen the certification is reported separately for the Energy Star and the LEED systems, there is no evidence that hte latter certification is associated with higher selling prices.”

• “The premium in rents and values associated with an energy label varies considerably across buildings. It is positively related to the intensity of the climate surrounding the rated building; a label appears to add more value when heating and cooling expenses are likely to be a larger part of total occupancy cost.”

I am extremely curious to see the reaction to the RICS study in the coming weeks. Already, several major media outlets have reported that it demonstrates “certified green buildings rent and sell at a higher price than non-certified buildings,” failing to note the study’s conclusions about the role a LEED rating may play in obtaining that higher price.

I look forward to your comments on the merits of the study once you have had the opportunity to review it; the study is available for download via the link below.

• Doing Well By Doing Good Study (RICS)

As the world financial headquarters has shifted from Wall Street to Washington, D.C., many commentators are expecting that green building will be a common condition of allocation of federally funded real estate projects whether in the form of direct subsidies or grants or public/private partnerships. This article will briefly examine a small portion of the unique legal risks that should be considered by lenders and property owners and developers in regard to obtaining financing for green buildings. It will specifically focus on ways lenders should attempt to mitigate risk through a basic understanding of green building, the careful examination of leases, construction documents and loan document covenants.

Basic Understanding of Green Building

Lenders must have a basic understanding of green building before financing green properties. They should be aware of the multiple third party green building certification systems and the specific limitations of the systems. Lenders should have teams that are familiar with the United States Green Building Council’s (“USGBC”) Leadership in Energy and Environmental Design Green Building Rating System (“LEED”) and preferably underwriters or loan officers that are either LEED Accredited Professionals (“LEED APs”) or the newly designated LEED Green Associates. If a lender does not have this level of green building experience or accreditation then they should seek outside counsel with the necessary understanding to assist them in order to minimize exposure. This level of knowledge will provide lenders with the necessary background to properly assess risks in financing green real estate.

Review of Green Leases

Leases, at a commercial property, are the most important factor in determining the value of a property. Most loan officers and underwriters are well versed in determining the property value based upon the rental stream and term of a lease. They are not as experienced in assessing the risks that may be contained within a green lease. Attorneys must assist the lender in carefully examining how the green elements of the lease could impact the value of the property. The first consideration is determining the required green elements of the lease and what happens if they are not achieved. Does the lease mandate the leased premises or property achieve a certain LEED or other third party certification status? What happens if the leased premises or the property fails to achieve said status? The lender should inquire as to the status of the LEED or other third party certification requirements, determine whether the landlord is able to satisfy its requirements and what the impact might be if landlord fails to satisfy the requirements. From a lender’s perspective, it is more palatable to see a lease provision that provides that it is the parties’ intent to achieve a certain LEED or other third party certification standard, but the failure to achieve such standard will result in some form of lease abatement or minimal free rent period instead of lease termination. Lenders are able to properly assess the value of a property with a lease abatement or free rent period, but if lease termination is available to the tenant then it is unlikely the lender will proceed with the financing, especially considering the current credit environment.

The lender should also take a more careful review in the long term property operation and management requirements within a green lease. Green building requires an active long term management plan to maintain the efficiency characteristics of the property. Certain green building classification levels may require re-certification after a certain period of time to show the property still complies with the necessary third party standards. Lenders will want to make sure that developers thus select property management companies that are able to provide the necessary services and that the property management agreement details these requirements. They may also want to review the operations and maintenance (“O & M”) plans to ensure that they are in place that are designed to comply with the green building systems in place at the property.

Finally, if the property is leased to multiple tenants then lenders should examine each lease to ensure that there are not conflicting green lease provisions that could create further challenges. For example, the lender must be able to determine the differences if one tenant requires the premises achieve LEED Silver for Commercial Interiors and another tenant requires LEED Gold for Commercial Interiors and that the property achieve LEED Silver for New Construction. These specific provisions are not in direct conflict, but if the second tenant also required that all other leases over 10,000 square feet also achieve LEED Gold for Commercial Interiors then an issue would arise if the first lease was for 15,000 square feet. A lender should also understand how the costs of the utilities may be detailed within the lease. Lenders routinely underwrite properties where all utility costs are passed on to the tenant. As some tenants are moving into green leases, in part, to have lower long term utility costs, they may have lease provisions that cap utility costs. A lender will need to determine whether the landlord is able to satisfy such lease requirements, potentially before there is even a history of performance at the property.

Construction and Building Design

Lenders that provide construction financing for green building projects should be involved in the selection of the construction team and the review and negotiation of the construction documents. The risks of green building have been detailed by commentators in this and other publications, time and time again. If a lender is willing to provide construction financing during these difficult times then they should have far more influence in the selection of qualified and experienced green building professionals then they would have in years past. Developers will hopefully work with experienced professionals in building a green project, but lenders should also examine the green building experience of the architect, contractor and subcontractors and make the approval of such professionals a condition of the financing. Lenders should review the owner-architect agreement and construction contract to make sure the responsibilities in planning and constructing the green building are clearly detailed. They will also want to make sure that there are penalties to the appropriate parties for failure to deliver the required green building. These penalties should correspond with the leases. For instance, if a lease requires a LEED Silver Commercial Interiors space and failure to provide such space will result in a two-month free rental period, the construction contract and owner-architect agreement should contain provisions that requires either a holdback or penalty in the amount of the loss of two months of rental payments to landlord, provided the failure to achieve the standard is not the fault of the property owner. The landlord may not be able to make the mortgage payments without such a provision, and the lender will obviously want to protect itself from such a possibility.

The Greening of Loan Documents

In addition to the added due diligence considerations, lenders may also need to modify loan documents in providing financing for green building projects. The first consideration will be in determining whether additional escrows are required to mitigate the risk of free rent or rental abatements in connection with certain green considerations detailed within the lease. These determinations should be relatively straightforward for the lender and again are not necessarily unique to green building. The loan documents will also provide that the landlord shall either comply or materially comply with the leases. Lenders should carefully review these provisions and may need to detail that the green building provisions are material lease provisions and failure to comply with said provisions will constitute a default under the loan, as well as the lease. Lenders may also consider adding additional covenants that acknowledge the green lease requirements and provide the specific details as to how the landlord will comply with such requirements in order to avoid any potential ambiguity.

Conclusion

Green building will continue to grow and likely become the best practice in the construction and development industry. Lenders must thus become familiar with the unique risks associate with green building. They must also be able to mitigate the risks, from the lenders perspective, when providing financing for green buildings. This article briefly examines a small sample of these issues and strongly encourages lenders to assemble a “green team” when financing green real estate developments.

Interested in contributing to GRELJ? Contact Stephen Del Percio via email here.